 Hello, everyone. Thank you very much for the invitation and the very kind introduction. The subject of this talk is fiscal union in Europe. Now this is related to the Euro crisis and all of that. And I have to say that coming here to this country, which is so deeply affected by the crisis as someone from Germany is a bit like traveling to Paris to lecture people about baking baguette. But I will still try and say something meaningful about this. Now I have brought a few but not very many slides. So here is what I would like to say. I would like to start by discussing the issues and by talking a little bit about what the plan for fiscal union is that the European institutions have in mind and where we are. Then I would like to look at this from maybe a more academic standpoint. You might also say a typically Germanic rigid, inflexible standpoint. I don't know. I'll leave that to you. And then in our three, I would like to suggest a way of making a fiscal union maybe work. So why more fiscal integration in the Euro zone? What are the issues? I think there are three issues here. The first issue is in a currency union, there is no lender of last resort for governments as there is in countries with their own central banks or in critical situations in situations where it is not clear for investors whether public finances are sustainable. This can lead to a very difficult situation. And we've seen some of that in the recent crisis. So if national governments have no access to a central bank, investors may lose faith, investors may panic, maybe just because they think that other investors panic. Even if there are concerns about the sustainability of public finances, if these concerns aren't so large, as an investor, you better move out if you think that other investors might move out. And normally the availability of a central bank as a lender of last resort would prevent this kind of scenario. So economists call this the issue of multiple equilibria where one equilibrium, the bad equilibrium, is one where everybody believes the country is bankrupt, then everybody will sell exits and indeed the country will be bankrupt or illiquid. And then there is the good equilibrium where everybody believes that enough people will have faith in the country and the result is that the country is indeed solvent, okay? So this multiple equilibria issue has come out very strongly in the crisis. And one idea is to have more fiscal integration to address that. Then there is this issue of asymmetric shocks affecting the currency union. So economic shocks affecting some countries within the union, but not all of them. Countries in the currency union by definition lack the instrument of monetary policy to respond these shocks. There's no exchange rate adjustment. And then what is the role of fiscal integration here? The role of fiscal integration is maybe to establish fiscal automatic stabilizers at the central level, some kind of insurance mechanism or transfer mechanism that would protect individual countries if they are hit by some kind of asymmetric shocks. So what are these steps towards more fiscal integration? What are the things that are debated? I've written down six here. And I think to some extent these different possible elements of a fiscal union very much reflect different views of what fiscal union actually is. We just discussed over lunch that different people think of very different things when they say fiscal unions. And the first here is maybe the typically German as in our view of fiscal union, which is more coordination of fiscal policy based on rules, you know, balance budget rules and other kinds of rules, rules for the level of government debt and all of that. Then there is the element of having a crisis mechanism, some kind of European monetary fund that would work as a lender of last resort in the case of fiscal crisis. We have the ESM, which is a crisis mechanism that has been established. Then there is the idea of having a joint government debt restructuring procedure, some kind of insolvency procedure. Further element could be joint liability for government debt, so Euro bonds, stability bonds or something like a debt redemption fund, which is not exactly, I will come back to that proposal. Number five, a fiscal backstop for bank restructuring. So a fiscal backstop for banking union. Banking union itself is an important element of fiscal and political union. And finally, there is the idea of European fiscal capacity. So the idea of having some kind of insurance, fiscal insurance at the central level. This could be a fiscal equalization mechanism, some kind of insurance mechanism. Some people would like to have a European unemployment insurance system, but the idea is always the same. If a country is hit by an economic crisis, the idea is that it would get some transfers out of these common resources that would help it in this situation. Now, these are all possible elements of fiscal union. Some of them have been introduced already, but I think it's interesting to ask, what is the plan the European institutions themselves have? What do they have in mind when they talk about fiscal union? And I would like to very briefly, I'm sure as many of you know this, I would like to mention two papers, which are important in this regard. The first is a paper by Hermann von Rompuy, the President of the European Council. He has published a paper, it's actually the paper of the four presidents, Hermann von Rompuy, the President of the Council, Mario Draghi, and the President of the European Commission, Barroso, and I've forgotten who the fourth was, but, anyway, so the first author is Hermann von Rompuy, and it is a paper of the European Council. This paper suggests three stages of setting up fiscal union. So stage one is to be completed until 213 or mid-214, and it includes the following element, ensuring fiscal sustainability and breaking the link between banks and sovereigns by completing the reform framework for fiscal policy coordination. So this includes these things here, the six-pack, the two-pack, and other things. Then the next element, the establishment of the European Banking Union by setting up the single supervisory mechanism. So introducing common banking sector supervision in Europe, this has happened. And then to agree on further steps towards banking union. That was stage one in their plan. Stage two to be completed in 2014. Completion of the banking union by setting up a common bank resolution or restructuring mechanism. This has just been decided, as you know, then setting up a mechanism based on contracts providing financial support in return for structural and growth-enhancing reforms. You know, this is my own wording, it's not the wording of the text, but this is an important idea. It's the idea to establish a new instrument where countries would get money from Europe in exchange for structural reforms. I will come back to this idea. So this is something that hasn't been completed. And then this paper suggests a stage three, post-214, establish a fiscal capacity. So it should be, this fiscal capacity should be well-defined and limited. And it should be an insurance mechanism. And the paper emphasizes that what they have in mind is not a fiscal equalization mechanism that would redistribute income across countries. You know, a lot of federations have fiscal equalization mechanisms that redistribute from rich to poor. Now this, the council paper emphasizes that there should be no such, as economists call it, ex-ante redistribution. The idea here is to really have an insurance mechanism. An insurance mechanism, a fiscal capacity as an insurance mechanism would imply, for instance, that Ireland would make transfers to Germany if there was a crisis in Germany now. And a crisis that didn't hit Ireland. Or maybe Ireland is not the best example, but money could flow from Greece to Ireland or from Greece to Luxembourg if Luxembourg was hit by a negative shock. And so that's something that wouldn't happen in standard fiscal equalization system. Now this is insurance as opposed to redistribution. So the council paper emphasizes this very much, obviously, because there are concerns in the high income countries that they would be burdened by having to pay transfers to the poorer countries. But I think it's important to bear that in mind. It's not something we usually have in federations or maybe something to be discussed. Do we have that or don't we have that? But that's the key idea in this plan for the longer term. And then there's also the idea to increase the degree of common decision making in taxation and employment policies. So taxation and employment policies are areas where the union doesn't have competences. So this is not part of EU competences now. But here's the idea that there should be more coordination in this area. So this is the council paper and the European Commission. So this paper is called Towards a Genuine Economic and Monetary Union. And it's from December 2012. And the European Commission has almost at the same time has published a paper called A Blueprint for a Deep and Genuine Economic Union. And this paper is more ambitious. It also proposes three stages of moving toward fiscal union. So stage one until mid-2014. Also includes the idea of reform and completing the reform of fiscal policy coordination. You know, changing the rules of the stability and growth facts and changing the rules for sanctions for countries that violate it. Stage one also includes steps towards banking union, banking supervision and regulation. And stage one here includes as a third element the establishment of a convergence and competitive instrument within the EU budget. Okay, this is again this idea of contracts. So countries would sign contracts with Europe, with Brussels and they would receive help transfers in exchange for certain reforms. Stage two, the medium term 214 until 217. Introduce what the commission calls a proper fiscal capacity. So this would be probably closer to what Van Romper has in mind with his insurance mechanism. Again, coordination and taxation and employment policies. Then very ambitious, introduce a debt redemption fund. The debt redemption fund was invented by the German Council of Economic Advisers. It, you know, in very shortly, the debt redemption fund is includes the idea that all countries with a debt to GDP ratio above 60% would be allowed to load off, you know, the excessive debt into a common fund. You know, the fund would be commonly guaranteed and the fund would be paid back, you know, the debt would be paid back over a period of let's say 20 years. And countries would have to make very strong commitments. For instance, devote certain taxes to paying down the debt. There is even the idea in this, I mean, these are academics, okay? So there's even the idea that central banks, national central banks should provide the gold reserves, another reserve they have as a, you know, as a security for this fund. And the idea is that we have a debt overhang in Europe, very high debt levels and how do we get rid of it? And this is the idea, you know, this is the suggestion. So that's what, one thing the commission wants to do and then the fourth element in stage two is the common issuance of short-term debt. So the idea of Euro bonds or stability bonds but limited to short-term debt. It is clear that this would require treaty changes. And then stage three, establish a fiscal capacity, sorry, establish a fiscal capacity in the form of an autonomous Euro area budget. Now here the Euro area is emphasized and here is the idea to, you know, next to the European budget, to the EU budget to set up a Euro area budget providing for a fiscal capacity to spot member states in absorbing economic shocks. You know, here you can have this insurance idea. Then introduce Euro bonds. The commission calls them stability bonds. The commission has written a paper where it describes the concept. And then the commission writes that this will require parallel steps towards a political union with reinforced democratic legitimacy. So I would like to, I mean, this raises many issues but I would like to focus on the issue of governance in the little time that is left. What, you know, what do these plans actually mean for the future of fiscal policy governance and economic policy governance in Europe? And the reason I focus on this is that I think that there is a lot of confusion going on about this. And I think one of the flaws of our debate in Europe, I mean, there are many positive things but one of the issues really is that there is no clear, no open debate about governance structures. There is the danger that we end up with a very bad governance structure with soft budget constraints and completely distorted incentives. And I think that there are actually two sentences in the commission mission paper that reflect this. And let me just read them to you. The first sentence is this, financial markets play an important role in creating incentives for countries to run sustainable public finances by pricing the risk of default into the rate at which sovereigns can borrow money. You know, if you like, this is the old Maastricht idea that public finances would be disciplined through financial markets. It is the idea that national governments, national parliaments are responsible for fiscal policy and that there is no joint liability. And then there is another sentence. You know, this is at the beginning of the paper and at the end of the paper, there's this sentence, a deeply integrated economic and financial governance framework could allow a common issuance of public debt. And then it goes on, which would enhance the functioning of markets and the conduct of monetary policy. You know, I don't think this is about the functioning of markets or the conduct of monetary policy. It is clearly about, you know, introducing joint liability for government debt. And this has consequences. And you know, what are these consequences? I would like to suggest thinking about this in very basic terms by distinguishing, if you like, two polar forms of economic governance in Europe. And they are summarized in this, I apologize about that, typical classroom type matrix. In the top row, in the horizontal row of the matrix, you have control of a fiscal policy. So who decides, who controls fiscal policy? Who makes decisions about the issuance of government debt, for instance? This can be the national level or the European level. We can do this nationally or jointly. And then there is liability, you know, who is responsible for this debt. This can also be European, so Europe is responsible. Euro bonds, stability bonds, or the national governments are responsible. And you know, if you have national control and national liability, you end up in what I've called here a decentralized fiscal union. You know, this was basically the Maastricht concept. Okay, the idea was, okay, national governments are responsible. They decide there are some rules for coordination, but the decision is with national parliaments and national parliaments are responsible. This is economically, this is in principle, as a governance structure, this is meaningful. It didn't work, and we will discuss in a minute why it didn't work in Europe. But this is a meaningful setup. The other meaningful setup is to have European liability and European control. If you have, you know, control and liability at the European level, this is in terms of basic incentives, something that can work. This makes sense. What doesn't make sense is having European liability, this corner here on the right, having EU-wide liability, joint liability for government debt and national decision-making. Now, this doesn't work because it allows free riding on the debt. And I'm afraid that the status quo is not too different from exactly the situation. So we have the guarantee of the European Central Bank for government debt. It's some kind of implicit guarantee. What does it mean? It's not quite clear, but I think there is a clear danger in Europe that we are moving exactly to this corner on the right-hand side. And this would mean that we have soft budget constraints in Europe. And this is an issue we know from federations and from decentral government, from regional or state governments in federations, and it's a very serious issue. And I think we, in our meaningful fiscal union, has to, in terms of the basic governance structures, has to make a decision between these two governance structures. Where do we want to go in Europe? And as the European Commission has said, to set up a centralized fiscal union, I'm not against it, it's something that can work. But to have that, we need full-fledged democratic control. We need a full parliament in Brussels. Brussels that has the right to tax and represents citizens. And I don't think Europe is ready for that. And if it is not ready for that, we need to focus on this thing here, on the corner below. And the question is, how might that work? You know, these two sentences, I've just read to you from the commission report, you know, they place the commission concept somehow in both areas, you know, and it's not clear where we really are. And I think we, for the moment at least, we have to try and make this decentralized concept work. Now, we do have policy coordination and some kind of interest or control over national fiscal policies at the European level, but it's not strong enough. You know, it's just not strong enough, it's not binding enough. So how could this work? Five points. National parliament are ultimately responsible for national fiscal policy. I think that banking union plays a key role here. Why did the Maastricht set up not work in a nutshell? You know, when the idea came up to restructure Greece, the biggest obstacle was the fear that there might be a financial meltdown. And I think it is the main objective of banking union to make sure that the European banking system doesn't collapse if there is a restructuring of government debt. So banking union for me is of key importance. Three, we need some kind of insolvency procedure for sovereigns. Now, you can do this without having an explicit procedure. As we have done in the case of Greece, I think that one of the lessons of the Greek case is that we need an explicit mechanism. My institute has produced a proposal. I don't want to go into this. There are other proposals on the table, but I think we need an explicit system really because our problem is not as it was 10 years ago when the IMF proposed this. Our problem is not that governments don't have access to finance. Our problem is that they have too easy access to finance. And at least they had that before the crisis and we have to address that. I think that fiscal and economic policy coordination is helpful. And fiscal rules are helpful. I think we should have them, but we shouldn't expect too much from them. When things get difficult, what we can achieve through these rules is limited. So we shouldn't expect too much from it. And final point, I think the ECB cannot act as a lender of last resort for national governments. So the current state of affairs, where there is so much uncertainty about the OMT program, but an implicit guarantee of the ECB leads to an inconsistent governance structure. We cannot have joint liability for government debt and zero or insufficient control at the European level. And for me, these are the essentials of fiscal union. And we can combine that with an unemployment insurance system with mechanisms for shock absorption. But I think these are the basics. So we have to be very clear, I believe, about what the governance structure is. And this governance structure, I think the difference to Maastricht last point, the difference to Maastricht is that there was indeed not enough political integration in Europe. So I think to preserve paradoxically, perhaps to preserve national responsibility and autonomy and fiscal policy, we need more integration, not less integration. But we shouldn't put ourselves in a position where we really have joint liability for government debt but no joint control. Thank you.